Thursday, 5 September 2019


China local governments sound alarm on debt obligations 

Analysts fear defaults could pose risk to Chinese financial system

Unmanageable debt loads have frequently been used to pay for unused or underused infrastructure © Bloomberg Share on Twitter (opens new window) Share on Facebook (opens new window) Share on LinkedIn (opens new window) Share Save Don Weinland in Beijing 7 hours ago Print this page 4 Provincial auditors across China are sounding the alarm on a wave of fast-approaching local government debt maturities that analysts think could amount to at least Rmb3.8tn ($560bn) within the next two and half years, presenting a risk to China’s financial system. The auditing office of Shaanxi province in northwestern China is the latest authority to release a worrying report on the level of debt repayments facing the local government. The office, one of several to release audit reports in recent weeks, warned this week that the province bears heavy repayment pressure over the next five years and that 34 per cent of its so-called “hidden debt” must be paid back before the end of the year, without specifying the size of that debt.

Hidden debt for Chinese local governments often refers to debt obligations that do not fall directly onto government books but are still considered liabilities. Local government financing vehicles (LGFVs), or companies operated by municipal or provincial officials, are a primary source of the hidden debt load. “The burning question is whether debt-strapped governments will be able to quickly bail out LGFVs that become distressed,” S&P Global Ratings said in a report. “The stakes are high. If defaults or bankruptcies among high-profile LGFVs become epidemic, it would erode market confidence, tarnish government reputations, and destabilise the financial system,” the agency added. Central policymakers have been concerned about the debt burden faced by Chinese cities and provinces for years and have been trying to rein in debt loads. Excess spending often leads to worries over unmanageable debt loads that have frequently been used to pay for unused or underused infrastructure. But a pullback from big projects quickly kicks up worries that the economy will slow down when demand for building materials decreases.

Putting a figure on the size of the local government debt pile is a difficult task. Many loans are connected to the country’s opaque shadow banking industry and are funded by trust companies and wealth management products connected to wealthy individuals. The known quantity of onshore bonds that financing vehicles must repay between this year and 2021 was Rmb3.8tn, according to S&P, a burden the agency described as “crushing debt problems” that many local governments would struggle to remedy. Several local government financing vehicles have defaulted on renminbi-denominated debt this year, and one group, Qinghai Provincial Investment Group, defaulted in February on US dollar-denominated debts, an event not seen in China in 20 years. Rhodium Group, an independent research house, said in a report earlier this year that it had found 13 cases in the first four months of 2019 where local government financing vehicles had defaulted on shadow banking instruments and warned that most of these default cases go unreported.

The central government pushed local governments to issue bonds as early as possible this year in order to finance infrastructure projects quickly in order to bolster economic growth. At the same time, central regulators have also hit the brakes on offshore bond issuance for local government financing vehicles, stopping all new issuance at the end of June. The financing vehicles had raised $12.4bn in US dollar bonds in the first half of the year, according to Dealogic, nearly doubling issuance from the same period last year.

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